U.S. financial giants make great strides

Manulife's Emory Sanders cites attractive valuations.

Sonita Horvitch 31 July, 2013 | 6:00PM
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 Emory Sanders, senior portfolio manager and U.S. equity specialist at Manulife Asset Management (U.S.) LLC, says that a number of leading U.S. financial-services companies are inexpensive.

Based in Boston, Sanders, who is co-leader of the U.S. core-value equity team, says some of these large-cap stocks are trading as much as 30% below his team's estimated value per share.

U.S. financial institutions now have much stronger balance sheets and are in generally better shape than was the case at the beginning of the global financial crisis in 2007, he says. "Given their strong franchises and market prominence, they are, therefore, well placed to take full advantage of the improving domestic and global economies."

On the home front, he says, those U.S. diversified financial institutions with strong domestic retail-banking franchises are benefitting from the strengthening U.S. housing market and the resultant growing demand for mortgages.

On the world stage, brand-name U.S. global investment bankers "are participating in the increasing trading volumes in equities, as well as fixed-income securities, plus the rise in mergers and acquisition activity."

Another sector of the U.S. equity market that offers value, says Sanders, is information technology. Here too, a number of leading global companies trade at "substantial discounts to our estimated value and offer good growth prospects."

In all, Sanders considers that the valuation of the broad U.S. equity market, as measured by the Russell 3000 Index, "is attractive." This index produced a total return of 21% from the beginning of 2013 to recent close, and is making new highs.

Emory Sanders

Still, he says, the Russell 3000 is currently trading at a multiple of 17 times earnings-per-share estimates for 2013 and 14 times 2014 EPS estimates. "This compares with a P/E multiple range over the last decade of a low of 11 and a high of 22 times." This puts the index's 2013 and 2014 P/E multiples "in the middle of this 10-year range."

Looking back 20 years, says Sanders, "the Russell 3000's current P/E multiple is some 30% lower than the average P/E multiple over that period."

At Manulife Asset Management, Sanders' mandate includes a lead role in Manulife U.S. All Cap Equity and Manulife U.S. Large Cap Equity. These funds, and their corporate-class versions, are co-managed with Walter McCormick.

The Manulife U.S. core-value team focuses on "financially sound companies with strong competitive advantages and sustainable cash flow that trade at valuations that offer both downside protection and good potential returns."

As part of its rigorous discipline, the team calculates a value for the target company. Its objective is to buy the stock when it trades at a discount to that value and to reassess the investment when the stock reaches this valuation.

Manulife U.S. All Cap Equity, with 50 names, is benchmarked against the Russell 3000. "The portfolio can have any combination of large-, mid- and small-cap stocks," says Sanders.

Currently the breakdown is 67% in large-cap stocks, defined as those with a market capitalization greater than US$10 billion, with the remainder in small- and mid-cap holdings. The portfolio is fairly concentrated with the top 10 holdings accounting for almost 50%.

When it comes to sectors, the portfolio is overweight technology at 30% versus 17% in the index, financial services at 26% (18%) and consumer-discretionary stocks at 21% (13%). "We do not own any utilities, telecom-services companies or materials stocks," Sanders says.

Two major U.S. diversified financial institutions among the top-10 holdings in the portfolio are JPMorgan Chase & Co. JPM and Bank of America Corp. BAC. "JPMorgan trades at roughly 80% of our estimated value and Bank of America at 77%," says Sanders.

Each bank has a roughly 10% market share of U.S. savings and chequing deposits and should enjoy strong mortgage-loan growth as the housing market continues to improve, Sanders says. Furthermore, he says, rising U.S. interest rates will benefit these banks. "Net interest margins, the spread between deposit rates and lending rates widen as interest rates rise."

In addition, JPMorgan, which has a particularly strong investment-banking presence globally, should benefit from the strengthening demand for investment and other banking services, around the world. Also leveraged to this global trend is the high-profile investment banker Goldman Sachs Group Inc. GS, another top-10 holding.

"It is one of the top-five investment bankers in the world and has a substantial competitive advantage, given its size and global reach," Sanders says. Goldman Sachs has, for example, a strong presence in the BRIC countries -- Brazil, Russia, India and China -- he notes. "There are high barriers to entry in these markets."

Goldman Sachs also has "an aggressive talent pool," says Sanders. The stock, he says, trades at 74% of the team's estimated value.

In technology, top-10 holdings include Apple Inc. AAPL and Qualcomm Inc. QCOM. Apple derives some 70% of its revenue from wireless devices plus it has a powerful brand and a great distribution network, says Sanders. "Smartphone use is expected to treble over the next decade," he says. The stock is "cheap." It currently trades at "65% of our estimated value."

Qualcomm is a royalty story "with fairly predictable cash flows," says Sanders. "It invented ground-breaking wireless technology used in all smartphones and continues to invest in research and development to ensure that its technology remains leading edge." The stock trades at 71% of the team's estimated value.

Turning to the consumer-discretionary sector, the largest holding in Manulife U.S. All Cap Equity is Amazon.com Inc. AMZN, "which is the world's biggest online retailer." There is, says Sanders, considerable growth potential in this segment of the retail market. "Amazon with its wide product range and low prices is set to gain market share in a growing market segment."

Also in its favour, he says, is that Amazon's founder and CEO, Jeff Bezos, has a large stake in the company. "This aligns his interests with those of the other shareholders." The stock trades at 80% of the Manulife team's estimated value.

Sanders and McCormick have sold the portfolio's holding in the cruise-ship vacation company Carnival Corp. & PLC CCL. The company, he says, has been producing slower-than-expected growth. "We were concerned about the pressure on the returns on Carnival's invested capital, which is one of the metrics we follow."

Bank of America Corp. Goldman Sachs Group Inc. JPMorgan Chase & Co.
July. 29 close $14.52 $163.17 $55.69
52-week high/low $15.03-$7.10 $168.20-$96.72 $56.93-$34.76
Market cap $156.5 billion $74.8 billion $210.5 billion
Total % return 1Y* 99.2 62.5 54.4
Total % return 3Y* 1.4 3.3 13.4
Total % return 5Y* -13.4 -1.2 7.9
*As of July, 29 2012. All figures in $US
Source: Morningstar

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Sonita Horvitch

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